Iterations: The Seed Stage Dandelion Effect

October 25, 2012

Originally wrote this on TechCrunch on April 19, 2011:

Two phrases heard often from entrepreneurs are: (1) “I’m looking for a technical co-founder” and (2) “We’re hiring engineers, developers, and designers.” Unless they have networks to pull from, recruit 100% of the time, or are just plain lucky, their odds of finding the right people are not pretty. For those hunting for technical co-founders, their venture may never come to light unless they outsource development (which creates other issues) or learn how to code, which is a noble pursuit but takes time. For those who have secured seed funds, the hunt for key technical hires can be all-consuming, and as a result, what venture dollars intended for product are spent on human resources. While new companies fight for talent and users, only a smaller corps will reach Series A benchmarks. The rest will have to scrape by or close shop entirely, with talent dispersing back into the labor market.

A number of forces are at play. The cost of building online has fallen dramatically, and the time required has been compressed. User adoption has been accelerated with viral platforms and social networks. In the background, the macroeconomic situation has shaken powerful industries, clustered wealth in fewer hands, democratized innovation, and ignited the mainstream popularity of attempting to building the next Facebook. And, as the amount of capital that has flooded into the seed stage has grown, more and more companies are forming daily, it seems. What will happen to all these companies? Some call this a “seed-stage bubble,” but I think that term is not quite correct. Rather, I like to think of it as the “Seed Stage Dandelion Effect.”

In a bubble, the financial pain would be felt by a number of actors in the system. In the seed market, where the majority of startups may never reach traditional Series A, the pain will largely be contained and not spread throughout the economy. Yes, many seed investors will not get their money back, but the risk is known going in, and no one is forcing them to plunk down dough. Instead of calling it a bubble, I like to think of it as the “Dandelion Effect,” where the founders and early technical employees of shutdown companies move on to other parts of the entrepreneurial ecosystem, emboldened with new experiences. I’ve recently heard of a company that’s folded—it raised just under $1M with four engineers holding impressive credentials. Now, each engineer is taking a slightly different path: one is headed to a tech giant on Page Mill Road, one to a venture firm on Sand Hill Road, one is starting something new, and one is joining a startup that has secured traditional venture financing. The story of this company illustrates the variety of choices technical talent will have, once locked up across so many small companies and, eventually, freed to reenter other parts of the ecosystem, stronger for the experience.

I don’t share the story of this particular company in a negative light—on the contrary, it’s a positive thing. First, there’s still so much seed capital in the system that engineers who want to join new founding teams will be welcome. Second, big tech giants and investors are hiring—they will gladly absorb more technical talent and have the cash to back it up. Let’s face it, some engineers will want to go back to the comfort of a salary and stocked kitchens, and there’s no shame in that. Third, and most critical right now, is that startups that have secured Series A funds and are now growing are in desperate need for technical talent in order to fight incumbents. Some engineers will want to go back to a salary but may not have the stomach for big tech company politics, so this presents a great option.

All of this, while volatile in the short-term, is healthy for the system overall and provides natural consolidation in the technical labor market. The engineers cited above, for instance, have acquired invaluable entrepreneurial skills from their most recent endeavor, and they will bring those skills to the next place. This accelerates learning and theoretically makes everyone better off. It’s Pareto improving—except for some investors. The ecosystem benefits in the aggregate, all because angels, micro-VCs, institutional seed funds, and innovations such as Angel List, have helped connect those with capital to deploy with those who need capital to build. And, as more companies form but do not reach Series A, the surge in new company formation will eventually help dissipate the pain of hunting for technical talent. Taking the long view, the seed stage isn’t in a bubble that is about to pop. It’s rather a series dandelions, where the winds will shake the seeds to new grounds where they can grow, forming again in the grasses, and increasing the overall likelihood that more flowers will emerge in the years to come.